Submitted by Toni Straka of The Prudent Investor
A First In History: The Coming Simultaneous European Banking Collapse
Watching international financial policy persisting on a concept to fight
debt with more debt in an environment where official GDP growth rates
only remain positive because of ridiculously low deflators, while
interest rates apart from those central bank help for banks via
laughingly low interest rates begin to surge everywhere else, this
observer begins to wonder if one can expect anything else than a
fast-rolling, simultaneous European banking collapse.
Engulfed in more exponentially rising debt on public and private levels
than ever before there simply cannot be another end of the longest
growth cycle in history than a simultaneous collapse of international
banking when lending freezes up due to fears about the real
creditworthiness of the respective counter party.
Globalization will have made it possible.
Bank Reserve Requirements: EU 2% - China 21%
The rise of supra-regional financial institutions that have evolved from
two decades of radical deregulation of financial markets and are now
too big to fail overshadows all major industrial nations as it has given
birth to unprecedented bulks risks never seen before. The situation
gets aggravated by the fact that banks have never held more derivatives
At a notional volume of $580 trillion as of 2010 derivatives now exceed
global GDP of roughly $50 trillion by a factor of 12. It strongly
appears this world is overleveraged as derivatives volumes have remained
at this level for the last 3 years.
Minimum reserve requirements of a paltry 2% in the Eurozone mean that
European banks are geared 1:50 (and possibly higher through the use of
off balance sheet vehicles). An adverse 2% move of markets can wipe out
any bank overnight.
Compare this with China where minimum reserve requirements have been raised to a staggering 21% in order to curb speculative lending.
But while China takes aggressive steps in order to reduce private
indebtment the Western world remains in wishful mode. A lot has been
written about national debts, sitting at record levels and rising
strongly due to investors suddenly asking higher risk premiums for
government debt like Greece's, where 2-year issues now yield above 25%,
confirming the foreseeable default of a country that was bankrupt one
out of two years in the last two centuries.
The stream of news has not changed much since late last year when the EU
inofficially split into the Euro hardcore area of AAA-rated Germany,
Austria, Finland, Luxembourg and the Netherlands and the risky rest
which is only half represented under the acronym PIIGS.
I do not include AAA-borrower France in the core group as it is heavily
exposed to the coming Spanish and Italian crisis which will have the
same roots as all banking crises around the world: reckless lending to
irresponsible public and private borrowers that fuelled a property boom
thanks to the lowest interest rates in history. Holding Greek bonds with
a volume of €54 billion, French and German banks were the main
benefactors of Greece's first €100 billion bailout in May 2010.
The hard landing is only a question of time. European politicians are
stuck in a deadlock over the resolve of the crisis while tending to lend
their ears to bankers who are trying to cover their ass as their low
interest rate strategies will not work any longer in a world of surging
commodity inflation that will take its toll on consumers and and
With the creation of a monetary union without a fiscal union the Euro
will become the death trap of the old continent as the inventors of the
common currency raced down a one-way street, never thinking about the
possibility of an exit of a Euro member.
Current negotiations on an inevitable restructuring of Greek debt have
not moved since last winter. Recent discussions to extend Greek debt for
7 years beyond maturity will lead into the same dead end all previous
meetings have ended before as governments shy away from calling to
account private debt holders.
This preference of investors over taxpayers has led to the mess we are
in. Regaled investors bulk at the idea of a haircut and force
governments with the threat of withdrawal from their debt auctions to
keep the status quo where they are essentially bailed out by taxpayers.
This does not go down well with 500 million European non-millionaires
who have been squeezed between stagnating salaries and doubling of costs
since the introduction of the Euro 10 years ago.
Massive protests against austerity programs have been spreading in
Europe since a year. Beginning in Greece a wave of protests has
mushroomed to London, Paris, Madrid, Barcelona, Lisbon, Berlin and
These protests against an "everything for banks and austerity for the
people" policy are justified by the global economic outlook best
described as stagflation giving way to hyper inflationary depression.
Banks are playing a losing game as their recapitalization dreams rest on
a foundation of a artificially low central bank interest rates coupled
with high yielding government debt. It is certainly a winner's game to
borrow money at 1.25%, only to turn around and buy German Bunds yielding
The ESM Is A Subprime Construct
As investors almost fist-fight for German government bonds, chancellor
Angela Merkel's is certainly getting moneyed support from investors who
realize that all their other holdings may turn into ashes if Germany
does not keep firing the European debt engine at lower yields than any
other Euro country.
Alas, the idea of finding cheaper money for the European deficit
spenders will stall in its own tracks as the so called European
Stability Mechanism (ESM) is inherently flawed. European politicians
nurse the hope that the ESM will be able to borrow money at rates close
to Germany's financing costs. The achilles heel of the ESM are its
members. So far Greece, Ireland and Portugal will be on the receving end
of the ESM, leaving only 14 countries - among them the insignificants
like Cyprus etc. - to back the fresh debt.
As only 6 nations in the Eurozone are left with an AAA rating it is a
miracle how rating agencies can rate this new debt again with AAA,
repeating the CDO failures and aiding irresponsible European politicians
in making subprime a business model for a whole continent!
Total issued government debt of the Eurozone stood at €5.9 Trillion in May 2011.
Current Greek bailout reports yo-yo between €70 billion and €100 billion for the second attempt to fix Greece.
Transpose this onto Ireland and Portugal and it looks likely that the
€750 billion ESM will run dry even before it comes into reality in 2013.
The pressure to increase capital ratios under new international rules
between 2013 and 2019 according to plans of the Bank for International
Settlements (BIS) is designed to suffocate the economy meanwhile,
intensifying the beginning of the Kondratieff winter.
As banks have to increase their capital set against private and business
loans, a credit crunch is written on the wall, and it will be boosted
by higher interest rates as lenders will compete for money.
At the same time banks will be able to continue to zero-weight
government debt in their portfolios according to new proposals by the
European Commission in 500-page legal paper "CRDIV".
This is clearly a head-in-the-sand strategy. All Euro members can be
safely assigned a negative rating outlook at this point of time and such
a weighting will again only delay, but never mitigate the banking
The Coming Giga-Credit Event
So far I have not met a critical member of the financial industry
recently who disagreed about the high possibility that the failure of
one of Europe's top 25 banks may start a simultaneous European banking
collapse because markets are intertwined as never before.
When one of these banks cannot meet its obligations, leaving countless
counter parties without expected funds, the dominoes will fall at
unprecedented speed in a realtime financial world.
It all could happen within 24 hours from the breakdown of a major bank
to a Europe-wide market holiday in an attempt to stop the unstoppable:
The reduction of the banking sector to a size that meets the needs of
the economy and not the needs of the bankers.
No industry has expanded more than the financial industry in the past
four decades, turning not only Europe, but most parts of the world into
Given the long delay in restructuring banking - the most important step
will be to regulate financial derivatives - thanks to a clueless
political elite in the EU, and the subsequent continued buildup of still
more risks a meltdown initiated by early market rumors trickling down
into media is the most likely end scenario.
In the past, financial crises were limited to the reach of the affected
currency. As the Euro now unites 17 countries in a monetary union that
was achieved by political will and not by reason, these 17 members now
man a ship with a lot of deficit holes. Finding themselves in a
financial tsunami, one or more countries will jump at some point.
It could be anybody. Either a weak Euro member seeking rescue by exiting
the Euro and devaluing its own new currency while KOing investors with a
bond haircut or a core Euro member pulling the emergency break and
leaving the mess behind it.
Either way it goes it will lead to a discussion about the future
integration of Europe as the concept of paying your neighbor's debts has
never worked before.